where orders emerge

Riffing on Bargaining Power

[W]hat would the economy look like if people could only make deals when they happened to have “equal bargaining power”? Almost all trade would be forbidden. Parties have equal bargaining power about as often as they have equal heights. The beauty of the price mechanism is that it persuades unequals to trade by giving parties with more to offer a sweeter deal.

“Equal bargaining power” sounds nice. It is sometimes even asserted to be a prerequisite for markets to work tolerably well. But like most slogans that substitute for thought, genuine thought reveals the meaning and, less generally, the merit of “equal bargain power” to be quite unclear. (One common misconception is that Big Corporation with a capitalized value of billions of dollars necessarily has more bargaining power than does an individual worker whose net worth is, say, only five figures. But if that worker has skills that are bid for by two or more big corporations – or, indeed, by two or more any sized employers – then it’s untrue that Big Corporation’s power to bargain with this worker is greater than this worker’s power to bargain with Big Corporation.)

But I mention Bryan’s post because it reminds me of the results of an instructional economics game that I’ve seen played many times. (The name of the game slips my mind; I think it’s cleverly called “the Bargaining Game.”) In this game, each participant – say, each of 15 students in a room – is given an initial endowment of wealth. The wealth that each student gets is the contents of a paper bag. Each paper bag contains an assortment of different everyday items that you can buy a typical American supermarket – items such as a toothbrush, a candy bar, a package of beef jerky, an apple, a bottle of water, and so on.

Some bags are filled with assortments of items that, by the typical American’s standards, are ‘better’ than are the assortment of items in other bags. For example, one bag might have a package of chewing gum, a banana, a granola bar, and box of toothpicks, while another bag might have a bottle of beer (the students are at least 21 years old!), a bar of premium chocolate, a roll of salami, and some breath mints. (Most – although with tastes being subjective, of course, not necessarily all – students would prefer to receive the second bag rather than the first bag.)

Having received their bags, each student is asked to examine the contents of his or her bag. After a few moments elapse, giving adequate time to examine and evaluate, the game’s proctor asks each student to rank, on a scale of one-to-ten, his or her satisfaction with the contents of his or her bag. (“One” is “hate!”; ten is “love!”) The numbers are summed, so that there is generated a quantified measure of “utility” for the students as a group. (Note to purists: everyone involved with this game understands, as do I, that we’re not really measuring utility in any scientific way, so please no sermons here on this summing of numbers being methodologically criminal.) A typical number for a group of 15 student might be, say, 71.

Then the proctor invites – not orders, simply invites - the students to bargain and exchange with each other. So if a banana-hater has a banana in her bag, she has the potential to transform that banana (possibly in combination with something else in her initial endowment) into an item that she prefers to her banana (and to whatever else she might have given up in exchange along with her banana). Perhaps she exchanges her banana for a package of chewing gum. Given that the exchanges are voluntary, every one of these exchanges presumably makes every party to the exchanges better off.

When the time for bargaining and exchanging expires (many minutes later), the game’s proctor asks each student to again rank, on a scale of one to ten, the contents of his or her bag. But now, because of trade, the contents differ from what they were initially. Also now – and not surprisingly, given that all trade was voluntary – the ‘aggregate utility’ or ‘total reported satisfaction’ after trading is completed is always higher than it was before trading commenced.

It’s a rather straightforward exercise that makes a simple, yet important, point.

But one thing that I’ve noticed every time that I’ve seen the game played – which is probably 50 or 55 times – is that the players who are lucky enough to get unusually good initial endowments – for example, the student who gets the bag with the bottle of beer and premium chocolate – are less likely to trade than are students with lesser-valued initial endowments.

……

So what lessons to draw from this last-stated observation?

One obvious lesson is that the ability to freely bargain and trade is more valuable to poorer people than it is to rich people. If Bill Gates’s monetary wealth were somehow randomly transformed into an equivalent amount of real goods and services, all banked in his (enormous) basement, he’d suffer less from prohibitions on bargaining and trading than would a poor American whose relatively meager monetary net worth were likewise randomly transformed into real goods and services. Bill Gates is far more likely, in such a scenario, to have adequate supplies of food, clothing, shelter, entertainment options, transportation opportunities, and other valuable stuff than is the poor American. So inability to trade would inconvenience – heck, would harm - Bill Gates far less than it would an ordinary American.

The market – people’s ability to trade more or less freely – was necessary for Bill Gates to acquire his fortune; it is less (which isn’t to say un) necessary for Bill Gates to keep and to enjoy his fortune.

Another lesson – or, rather, interesting question – involves bargaining power. Not having to bargain as desperately as the poor American, does Gates have more bargaining power than the poor American? Plausibly. But this result stems from the fact that Gates doesn’t have to bargain as desperately. If Gates bargains with the poor American – if the poor American manages to offer Gates an exchange that Gates finds attractive and, hence, accepts – what do we conclude, especially in light of the fact that Gates isn’t the only person that this poor American can bargain with? We must conclude that the poor American, like Gates, benefitted from the exchange. But must we conclude also that Gates’s gain from this trade is necessarily, or even probably, greater than is the gain to the poor American?